{"title":"Optimal Ratcheting in Executive Compensation","authors":"Iny Hwang, Youngsoo Kim, Michael K. Lim","doi":"10.1287/deca.2023.0467","DOIUrl":null,"url":null,"abstract":"Recent empirical studies point out that the firms do not fully incorporate the managers’ past performance when revising future contractual terms. This study offers a theoretical perspective on the firm’s executive compensation strategy that supports such latest empirical findings. Using a two-period principal-agent model, we examine firm’s compensation schemes with ratchet principle taking into account key factors such as informational rent, capability uncertainty, and performance noise. After characterizing the optimal incentive rates for a given degree of ratcheting, we examine the efficacy of ratcheting contract in executive compensation. We also explore the optimal degree of ratcheting that strikes a fine balance between informational rent and ratchet effect. We find that the capability gap-performance noise ratio plays a critical role in determining the optimal degree of ratcheting. Funding: I. Hwang and M. K. Lim acknowledge support from the Institute of Management Research at Seoul National University. Supplemental Material: The online appendix is available at https://doi.org/10.1287/deca.2023.0467 .","PeriodicalId":46460,"journal":{"name":"Decision Analysis","volume":null,"pages":null},"PeriodicalIF":2.5000,"publicationDate":"2023-06-01","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":"0","resultStr":null,"platform":"Semanticscholar","paperid":null,"PeriodicalName":"Decision Analysis","FirstCategoryId":"1085","ListUrlMain":"https://doi.org/10.1287/deca.2023.0467","RegionNum":4,"RegionCategory":"管理学","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":null,"EPubDate":"","PubModel":"","JCR":"Q3","JCRName":"MANAGEMENT","Score":null,"Total":0}
引用次数: 0
Abstract
Recent empirical studies point out that the firms do not fully incorporate the managers’ past performance when revising future contractual terms. This study offers a theoretical perspective on the firm’s executive compensation strategy that supports such latest empirical findings. Using a two-period principal-agent model, we examine firm’s compensation schemes with ratchet principle taking into account key factors such as informational rent, capability uncertainty, and performance noise. After characterizing the optimal incentive rates for a given degree of ratcheting, we examine the efficacy of ratcheting contract in executive compensation. We also explore the optimal degree of ratcheting that strikes a fine balance between informational rent and ratchet effect. We find that the capability gap-performance noise ratio plays a critical role in determining the optimal degree of ratcheting. Funding: I. Hwang and M. K. Lim acknowledge support from the Institute of Management Research at Seoul National University. Supplemental Material: The online appendix is available at https://doi.org/10.1287/deca.2023.0467 .
最近的实证研究指出,企业在修改未来的合同条款时,并没有充分考虑到经理人过去的绩效。本研究为公司高管薪酬策略提供了一个理论视角,支持这些最新的实证研究结果。在考虑信息租金、能力不确定性和绩效噪声等关键因素的情况下,采用两期委托代理模型,运用棘轮原理对企业薪酬方案进行了研究。在刻画了给定棘轮程度下的最优激励率后,我们检验了棘轮契约在高管薪酬中的有效性。我们还探讨了在信息租金和棘轮效应之间取得良好平衡的最佳棘轮程度。研究发现,性能间隙-性能噪声比是决定棘轮优化程度的关键因素。资助:I. Hwang和M. K. Lim感谢首尔国立大学经营研究所的支持。补充材料:在线附录可在https://doi.org/10.1287/deca.2023.0467上获得。